Question

The GFA Company, originally established 16 years ago to make football, is now a leading
producer of tennis balls, baseballs, footballs, and golf balls. Nine years ago, the company
introduced “High Flite,” its first line of high-performance golf balls. GFA management has
sought opportunities in whatever businesses seem to have some potential for cash flow. Recently
Mr. Dawadawa, vice president of the GFA Company, identified another segment of the sports
ball market that looked promising and that he felt was not adequately served by larger
manufacturers.
As a result, the GFA Company investigated the marketing potential of brightly coloured bowling
balls. GFA sent a questionnaire to consumers in three markets: Accra, Kumasi, and Koforidua.
The results of the three questionnaires were much better than expected and supported the
conclusion that the brightly coloured bowling balls could achieve a 10 to 15 percent share of the
market. Of course, some people at GFA complained about the cost of test marketing, which was
GH¢ 250,000. Also, the feasibility test carried out by analysts to assess the viability of the
project costs GH¢ 100,000. In any case, the GFA Company is now considering investing in a
machine to produce bowling balls. The bowling balls would be manufactured in a building
owned by the firm and located near Madina. This vacant building and the land can be sold for
GH¢ 150,000 after taxes.
Working with his staff, Dawadawa is preparing an analysis of the proposed new product. He
summarizes his assumptions as follows: The cost of the bowling ball machine is GH¢100,000
and it is expected to last five years. At the end of five years, the machine will be sold at a price
estimated to be GH¢ 30,000. The machine is depreciated on straight-line basis. The company is
exempt from capital gains tax. Production by year during the five-year life of the machine is
expected to be as follows: 5,000 units, 8,000 units, 12,000 units, 10,000 units, and 6,000 units.
The price of bowling balls in the first year will be GH¢20. The bowling ball market is highly
competitive, so Dawadawa believes that the price of bowling balls will increase at only 2 percent
per year, as compared to the anticipated general inflation rate of 5 percent.
Conversely, the plastic used to produce bowling balls is rapidly becoming more expensive.
Because of this, production cash outflows are expected to grow at 10 percent per year. First-year
production costs will be GH¢10 per unit. Also, „Soft Flite‟ a substitute product, is expected to
have a drop in its sales by 1000 units per annum. The selling price per unit of existing products is
GH¢5 while the variable cost is GH¢ 4. This has no tax implications for the new product.
Dawadawa has determined, based on GFA‟s taxable income, that the appropriate incremental
corporate tax rate in the bowling ball project is 34 percent.

Answer 1